What Is A Credit Note? And When To Use Them

Have you ever sent an invoice to your customer only to realise later that you charged them the wrong amount?

Or have you received an invoice from a supplier but the quality of goods or services they provided wasn’t up to scratch so you feel you shouldn’t have to pay the full price?

Situations like these happen all the time in business, and when they do, customers and suppliers rely on a document called a credit note to sort things out.

In this guide and video, we simply explain what a credit note is, when to issue one and what details to include on them. 

What Is The Purpose Of A Credit Note?

A credit note is a document that is part of the purchasing process, along with other documents such as quotes and invoices.

They are generally used when something has gone wrong during the purchasing or invoicing process that requires the supplier to provide a discount or refund to their customer.

When a supplier needs to provide a discount or refund their customer, it’s often called a credit.

So what sort of things can go wrong during the purchasing process?

Well, lots of things! A few examples are:

• Goods provided by a seller to a buyer are faulty or damaged
• Services provided by a seller to a buyer are not up to standard
• Goods or services have been delivered just fine, however the seller has charged the wrong price on the invoice
• A previously agreed discount was not applied to an invoice
• A discount has been agreed after an invoice has been sent to the buyer
• The buyer accidentally overpaid an invoice and needs a credit or a refund

Whatever the reason, when mistakes like these happen, the seller needs to provide credit to their customer, and they do this by sending them a credit note.

How Is A Credit Note Issued?

Credit notes can be for different amounts and can be used in different ways, depending on the situation.

For example, a credit note could cover the entire amount of an invoice. This effectively means that the customer will not pay anything for the goods or services they received. One situation in which this could happen is if an entire shipment of goods was damaged in transit and had to be written off or sent back to the supplier.

In another example, a credit note could be issued for part of the total invoice amount. This usually happens if some of the goods or services provided aren’t up to scratch, or if the supplier accidentally overcharges their customer.

Sometimes, a supplier can issue a credit note that does not relate to any particular invoice at all. This is because credit notes can be issued for any value, at any time, and for any reason – they aren’t always issued after an invoice has been raised.

Another important thing to note is that the credits received via credit notes do not necessarily have to be applied to any particular invoice. It is quite common for customers to offset the credit against one or more future invoices they receive from their supplier.

So as you can see, credit notes can be created for a variety of reasons; they can be for any amount; and there is flexibility with how they are applied to current and future invoices.

Bookkeeping software such as Xero or QuickBooks allow you to easily issue credit notes against any invoice.

Why Use A Credit Note?

At this point, you may be wondering why you would use credit notes at all, rather than just deleting an incorrect invoice and sending your customer an amended invoice.

Well, this is because businesses are usually required to keep an accurate audit trail of their transactions.

If you receive faulty goods from a supplier and you delete the invoice they send you because you aren’t going to pay the full amount, you may not have any evidence on record that you received the faulty goods and you may need that evidence if there is a dispute.

A better idea is to keep the original invoice, request a credit note, and then keep both documents together in your system. That way you have a proper audit trail of the events that happened during the transaction.

What Do You Include On A Credit Note?

You should make sure your credit notes contain lots of information about the supplier, the seller and the transaction.

A good rule of thumb is to include similar information on your credit notes that you include on your invoices – such as business names, address and contact details; descriptions, quantities and prices of goods and services; and relevant tax amounts such as GST or VAT.

The more information you include, the better your audit trail will be.

So as you can see, a credit note is used when something goes wrong with the invoicing or purchasing process and plays an important role in keeping accurate records of transactions. 

If you would like to learn more about other key documents used during the purchasing process, be sure to check out our guides and videos on invoices, quotes and other related topics.